Identifying Speculative Bubbles: A Two-Pillar Surveillance Framework

November 19, 2014

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Format: Chicago

Bradley Jones. Identifying Speculative Bubbles: A Two-Pillar Surveillance Framework, (USA: International Monetary Fund, 2014) accessed November 23, 2024

Disclaimer: This Working Paper should not be reported as representing the views of the IMF.The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate

Summary

In the aftermath of the global financial crisis, the issue of how best to identify speculative asset bubbles (in real-time) remains in flux. This owes to the difficulty of disentangling irrational investor exuberance from the rational response to lower risk based on price behavior alone. In response, I introduce a two-pillar (price and quantity) approach for financial market surveillance. The intuition is straightforward: while asset pricing models comprise a valuable component of the surveillance toolkit, risk taking behavior, and financial vulnerabilities more generally, can also be reflected in subtler, non-price terms. The framework appears to capture stylized facts of asset booms and busts—some of the largest in history have been associated with below average risk premia (captured by the ‘pricing pillar’) and unusually elevated patterns of issuance, trading volumes, fund flows, and survey-based return projections (reflected in the ‘quantities pillar’). Based on a comparison to past boom-bust episodes, the approach is signaling mounting vulnerabilities in risky U.S. credit markets. Policy makers and regulators should be attune to any further deterioration in issuance quality, and where possible, take steps to ensure the post-crisis financial infrastructure is braced to accommodate a re-pricing in credit risk.

Subject: Asset bubbles, Asset prices, Credit, Financial crises, Financial institutions, Financial markets, Money, Prices, Stock markets, Stocks

Keywords: Asset boom, Asset bubbles, Asset class, Asset price, Asset price movement, Asset prices, Asset valuation measure, Credit, Discount rate, Earnings yield, Expected return, Extrapolative return expectation, Fair value, Financial crises, Financial stability, Global, Investor return expectation, Market efficiency, Pillar asset bubble surveillance framework, Price bubble, Risk premium, Stock markets, Stocks, Term speculation, Trading activity, WP, Yield market

Publication Details

Pages:

49
Volume:

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DOI:

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Issue:

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Series:

Working Paper No. 2014/208
Stock No:

WPIEA2014208
ISBN:

9781498332071
ISSN:

1018-5941

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